Ethereum Gives Bitcoin A Run for Its Money

Are we on the verge of becoming a fully cashless society? Already, many people forego green for plastic and IOUs for Venmo. Amazon outright rejects cash at its bookstores. Companies have capitalized on the transition from tangible to virtual by offering cryptocurrency—encrypted peer-to-peer transactions.

Ethereum, a relatively new virtual currency company, has recently seen major growth. Its value increased 1,000 percent in the last quarter while Bitcoin transactions have slowed. Ethereum’s applications are powered by Ether, a single unit of payment. Like Bitcoin, Ethereum capped its supply. You can think of the supply cap like a virtual gold standard. Specifically, Ether is capped at 18 million Ether per year. Ether has dramatically increased in value, from $1 to $12, totaling about $1 billion in Ether that currently exists. Bitcoin currently stands at about $6 billion.

The following is a basic explanation of how virtual currency systems operate. Each transaction between parties is verified and validated. The transactions are then organized in blocks, which are linked to one another, creating a blockchain. Blockchains store all of this data on a decentralized network, meaning there is no central authority, and it is managed by all of its users. With the risk of double spending eliminated, parties are able to quickly and easily exchange money. Saving customers hassle and expense, virtual currencies remove the middlemen.

Through its blockchain applications, Ethereum offers its customers additional services. One of these is the ability to create “smart contracts,” which the company defines as “applications that run exactly as programmed without any possibility of downtime, censorship, fraud, or third party interference.” Customers may also “create markets, store registries of debts or promises, move funds in accordance with instructions given long in the past (like a will or future contract)….”

Much of Ethereum’s success hinges on its network of developers, who build applications using Ethereum’s programming language. Within its global network, Ethereum has about 5,800 computers, while Bitcoin operates at about 7,400. One Brooklyn-based company, ConsenSys, employs 50 developers who have created Ethereum apps that enable music distribution and financial auditing. ConsenSys also just formed a collaboration with Microsoft, whose developers will build their own applications using the smart contract programming language. Microsoft already offers Ethereum blockchain in its cloud computing platform, Azure.

Since the advent of Bitcoin in 2009, virtual currencies have become more accessible because of increased regulation, safeguards, and acceptance. These improvements followed some serious problems, such as money laundering and extortion. Critics warn that Ethereum will grapple with some of these same issues and maybe some of its own: the system is not as tested when it comes to criminal use, hackers, and the like. And since Ethereum provides a programming language, critics fear fraudulent contract schemes being written directly into the Ethereum system.

Even with some new regulation, virtual currency is plagued by unresolved legal issues. For instance, is virtual currency a commodity or a currency? Bankruptcy Judge Dennis Montali in the Northern District of California ruled that Bitcoin is not currency, but “intangible personal property.” He acknowledged that while cryptocurrency is becoming more accepted, “you try paying your bar ticket with one.” Similarly, the Internal Revenue Service (IRS) said that virtual currency “does not have legal tender status in any jurisdiction,” even though individuals use the currencies to pay for goods and services. Check out this recent WJLTA article for a more thorough explanation of virtual currency and its tax consequences.

With all of its recent successes, Ethereum has secured its second-place standing in relation to Bitcoin. It could steal the whole show. But Ethereum, Bitcoin, and other virtual currency companies still must face current and future legal questions during our shift from “real” to virtual.